Damodaran on Capital and Operating Leases

Another way to treat this provision would be not to recognize at the inception of the lease but directly expense the costs when the required maintenance is performed. Regarding the accrual method in Alternative 1, ASC 360-15-25-5 prescribes “the use of accrue-in-advance (accrual) method of accounting for planned maintenance activities is prohibited in annual and interim financial reporting periods.” This is consistent to FASB’s opinion

Case 11-6 deals with Lessee Ltd., a company that operates in Britain and uses IFRS. The question in this case is how to classify a lease that Lessee, Ltd. acquired from Lessor Inc. The accounting standard that deals with leases under IFRS is IAS 17. IAS 17 was originally issued in September 1982 and was reissued in December 2003. It classifies leases as either finance leases or operating leases. Finance leases make it so that the lessee recognizes an asset and a liability and the lessor recognizes a receivable, basically transferring all the risks and benefits of ownership. Under operating leases, the lessor still recognizes the asset and the lessee recognizes an expense.

The next type of lease is the financial lease. This lease does not include a maintenance fee and this type of lease is like a rent to own when the lease is paid in full the ownership is transferred to the organization.

The reason we want to capitalise the lease commitments is that reporting under operating assets leads to substantial amounts of off-balance-sheet assets and liabilities. Hence, it is difficult to compare financial statements between two similar companies but use different accounting methods for essentially the same transaction.

C. In a sales-type lease the carrying value of the asset is charged to cost of the asset leased (expense), and the present value of the minimum lease payment as the amount of the sale. For direct financing leases no sales or expense is recognized because the asset is removed from the books. The difference between its carrying value and the undiscounted minimum lease payments is recorded as unearned interest revenue. The net investment in a sales type lease ia accounted for in a similar manner as a direct financing

Then thirdly, the operating lease is when the lessor depreciates the leased asset according to its depreciation policy. The maintenance costs of the leased asset are charged as an expense, the costs, such as finder’s fees and credit checks, are amortized over the lease term, and the leased equipment and accumulated depreciation are shown as equipment leased to others. Usually any lease that do not fall under the criteria for a direct financing lease or sales-type lease are recorded as an operating lease.

To classify the arrangement, ASC 840-10-25-29 states that “If at its inception a lease meets any of the four lease classification criteria in paragraph 840-10-25-1, the lease shall be classified by the lessee as a capital lease.” On the contrary, if none of the criteria is meet, the lease should be classified as an operating lease (ASC 840-10-25-30)

A statement of the terms of the lease to the property must be present. Id. In these facts, YTNH and Mr. Massey agreed to five years of rental with the first year at a rate of four dollars per square foot, and the years thereafter, at an annual rental rate that would automatically change in accordance with the Consumer Price Index for the South Urban region.

Dhaliwal, Dan, 2011. The Impact of Operating Leases on Firm Financial and Operating Risk.. Journal of Accounting, Auditing & Finance., [Online]. Volume 26 Issue 2, 151-197.. Available at: http://web.ebscohost.com.simsrad.net.ocs.mq.edu.au/ehost/detail?vid=3&sid=9317bb11-bcea-4e15-99f8-3930c890a726%40sessionmgr111&hid=103&bdata=JnNpdGU9ZWhvc3QtbGl

At the lease commencement, finance leases are capitalised at the fair value of the leased property, otherwise the present value of the minimum lease payments if lower (MHI, 2014). Other short term and long term payables include the relevant rental obligations and net of finance charges (MHI, 2014). Every lease payment is apportioned between the liability and finance charges (MHI, 2014). The finance cost is indicated in the comprehensive income statement for the lease period as well as to generate a constant periodic rate of interest on the remaining balance of the liability for each period (MHI, 2014). During the lease term, the depreciation is considered for the useful life of the asset such as the property, plant and equipment assigned under finance leases (MHI, 2014). The portion of the risks and rewards of ownership are persevered by the lessor are categorized as operating leases for leases (MHI, 2014). For the period of the lease, all payments made under operating leases less any incentives from lessor are indicated in the comprehensive income statement on a straight-line basis (MHI,

The truck lease would be accounted for as a regular equipment lease with the interest every month.

A sales-type lease is defined in ASC 840-10-25-43(a) and states, “A lease is a sales-type lease if it gives rise to manufacturer’s or dealer’s profit (or loss) to the lessor (that is, the fair value of the leased property at lease inception is greater or less than its cost or carrying amount, if different) and meets either of the following conditions,” and the conditions it must meet are the conditions for a capital lease and the payments must be reasonably predictable and no important uncertainties about the payments should be present as stated in ASC 840-10-25-42. The conditions for classifying a capital lease are described in ASC 840-10-25-1. The journal entries would differ from the others as it would include sales revenue in the initial recording.

The difference between operating lease and sales-type lease is that in sales type lease the lessor sets a selling price above the asset cost, thus recognizing an immediate profit at the inception of the lease. Whereas, in operating lease income recognized using a straight-line basis over the life of the lease. Income would be spread out further on a sale-type lease thus spreading out the tax liability over the period of time. Therefore it would be beneficial for Sable Inc. to record the lease of bulldozer as sales type

In today’s world, customers often face a dilemma about whether to buy or lease. Lease is an agreement in which one party gains a long term rental agreement, and the other party receives a form of secured long term debt. On the other hand, buying involves transfer of ownership from seller to buyer. Buying or leasing decision depends mostly on customer’s preference. There are many factors to consider before taking a buying or leasing decision.

books and depreciated, and the lessee recognizes lease payments in the income statement in the period in which it is paid.